Gold Research Videos

Conference presentation by economist Jesús Huerta de Soto

ProfessorJesús Huerta de Soto: Good afternoon. It's a great pleasure to be here today. And first of all, I would like to tell you that I'm a professor of political economy, so I will try to deliver a lecture on economic theory. But, please, do not forget that there is not something more practical but a good theory. But before I begin, I would like to thank a lot Tuur Demeester for his great effort translating into Flemish my book, Money, Bank Credit and Economic Cycles. I thank you very much.

[applause]

Tuur Demeester:  It was a great pleasure. It was a genuine education.

Professor Huerta de Soto:  OK. I hope that the book has been already published, hopefully. It's the seventh language in which the book has been translated. Now it's being printed simultaneously in Germany, Italy, and France. And we will see the Chinese edition very soon. Altogether, the book has been translated and will be published into 14 different languages. I'm the first surprised for the success of this book. I wrote the book in 1997. And I think that, thanks to the huge financial crisis and economic recession, the book is so popular nowadays. [laughter]

Professor Huerta de Soto:  Well, all the problems we are suffering today began with something that happened on July 19th, 1844. In that date, in that fateful day, Peel's Bank Act was enacted in England. And Peel's Bank Act was a very important step forward in the right direction, because Robert Peel realised that all the problems England was suffering before 1844 – I'm meaning all the economic problems of bubble bursts, bubbles, financial crisis, and economic recessions England was suffering before those days ‑ were the result of a single fact, that they saw that bankers were issuing certificates of deposits of money in a greater amount than the true money that was deposited in the banks. In those days, the world money was gold. And bankers realised that when the gold was deposited in their vaults, it was either for a long period of time, their vaults, so they were tempted to begin to issue a greater amount of certificates of deposit than the true amount of gold originally deposited in their vaults.

Of course, these certificates of deposits were paper bills. I cordially disagree with James Turk. Those paper bills are not credit titles against anybody. They are just certificates of deposits, certificates of demand deposit. So, they act, as Mises called them, pure money substitutes. In the same way that people have a 100‑percent confidence of banks, everybody was using these paper bank notes as if they were gold in their economic transactions.

Of course, the temptation for the bankers was huge. Why not issue a greater amount of paper bank notes, of certificates of deposits? This is what, in fact, they began to do, since the creation of the Bank of Stockholm at the beginning of the 17th century, when they began to develop the business of creating banknotes, paper bank bills, in a greater amount than the gold originally deposited in their vaults.

This created, at the beginning, a bubble, because the injection of new money, a certificate of deposit, it's like a shot of drug, of heroin. The economy reacts in a way that Alan Greenspan called 'irrational exuberance.' Everybody's happy at the beginning. Because, imagine that bankers were spending these banknotes in consumer goods. Well, these would be affecting the prices of consumer goods, increasing them, but the problem is that these new paper bills were lent – this is the real problem – to entrepreneurs. So, a lot of entrepreneurs were able to find very easy and cheap financing, to any investment project, no matter how crazy it was.

So everybody, all investors were very happy with this new, cheap financing. At the same time, consumers were very happy. They were getting a lot of paper money that they could use to consume. And also, workers, very happy, a lot of demand for their services. Governments, very happy. They were seeing a lot of increase in their tax income.

But, what happened in those days? What happened is that the result of this inflation, this expansion of credit finance through the emission, the issuing of new paper banknotes was increasing the price level in England. And it was cheaper to buy goods and services from the continental Europe, so a huge increase in imports and a decrease in exports was the result. And as a result of that, as continental Europeans were asking not for paper banknotes but for real gold, bankers began to see losing their reserves in England. And then, all of a sudden, the bubble became a burst. This was the cycle that affected England before 1844.

So, Robert Peel did a good diagnosis of the problem and found the solution. The solution was very easy: let us require bankers to keep a 100‑percent reserve requirement on the certificate of deposits, paper banknotes, they are issuing. And this was the main tenet, the main point, of Peel's Bank Act.

So, in Peel's Bank Act, it was established that from then on, you could only issue paper banknotes exactly in the same amount of the gold originally deposited in the bank. This was established, as a matter of fact, for the Bank of England, which was the most important private bank in England. The law was even more demanding for the other private banks, establishing an overall, absolute limit to the amount of paper banknotes they could issue. And a lot of hopes were put in this legislation. English citizens thought that, from then on, all their problems would be solved. No more bubbles and bursts. No more cycles of economic, financial exuberance and recession would be repeated.

But, notwithstanding all their good hopes put into this legislation, this legislation was a huge failure. Why it was a huge failure? Very easy. It's very easy to understand. Because the legislation did forget to require exactly the same, the 100‑percent reserve requirement, not only for deposits, which was what was established in the law, but also to the deposits of gold, but also to demand deposits. That's a very important point. From then on, from Peel's Bank Act, it was forbidden to print more paper banknotes than the world originally deposited. But, the legislation forgot to require the same for demand deposits.

Why the legislation forgot to demand this 100‑percent requirement for demand deposits? Just for one reason. In those days, in the first third of the 19th century, economic theoreticians did forget something that was discovered 300 years earlier by the scholastics of the School of Salamanca. The scholastics of the School of Salamanca, in the 16th century, already discovered that demand deposits in a bank do behave exactly the same way as banknotes, are part of the monetary supply, exactly the same way as paper bills. They called it 'chirographis pecuniarium' in Latin, which means, in English, 'pecuniarium,' money, 'chirographis.' Written money.

Those bank entries, in the accounting books of bankers are money, exactly the same as paper banknotes or gold. But, this was forgotten. And as a matter of fact, I will tell you that economic theorists did not agree among themselves, among ourselves, that bank deposits are part of the monetary supply, till the beginning of the 20th century – almost yesterday. And this is a huge pity, because, against all the good hopes of Peel's legislation, this legislation was a failure. Since 1844, what bankers did was very easy. They just redirected their business from the business of over‑issuing paper banknotes to exactly the same, from the theoretical point of view, business of issuing demand deposits.

So, if you remember your first lessons of accounting, you will remember the asset side and the liability side in the balance sheet. What bankers began to do, since then on, was very easy: to create, from out of thin air, a new credit. For instance, one million euros lent to this gentleman, and write in the asset side of the balance sheet, 'Credit to Mr. X, one million euros,' against one million euros of deposits in the liability side of their balance sheet. Deposit created out of thin air, which is money created by the banker.

When bankers began to do that, the English citizens were in a state of despair, because they could see that bubbles did continue and that the periods of irrational exuberance repeated again and again. Huge malinvestment was created, and after that, new financial crises and economic recessions arrived.

Whenever a financial crisis arrived, an economic recession, people lost entirely their confidence on bankers, were to demand their gold. Their gold was not there, and then we had a bank run, what we call in Spanish, 'una corrida bancaria.' If anybody remembers the movie, Mary Poppins. Remember Mary Poppins, with the two children with the two pennies, running out of the bank, and then everybody losing their confidence in the bank? This was an example of what was being repeated again and again in the 19th century.

Whenever these situations of financial crisis arrived, there was just one solution: to ask for help through the Bank of England.

So, in those moments, the Peel's Bank Act was suspended because the Bank of England was the lender of last resort. The bank was created in order to give support to private bankers whenever problems arise. In order to give support, the Bank of England needed to be able to create from scratch all the necessary liquidity to bail out bankers with problems. And this was not possible, of course, with gold. There is no way to create from scratch gold.

So, from then on, we can now understand very clearly the historical evolution of the monetary system up to the present time because in order to be able to create from scratch all the necessary liquidity to bail out banks, it was necessary, first of all, to substitute gold that could not be created from scratch by paper money, a purely fiduciary monetary system as we are having today. And at the same time, legal tender laws were enacted in order to force all of us to accept the payment through these paper bank notes. And the central bank was created as the lender of last resort that was orchestrating, directing the process of monetary expansion all of the time. And now till today, it's something unbelievable that beginning the second decade of the 21st century all the financial and banking systems of the world is the result of this accident, historical accident, this error committed in the Peel's Bank Act forgetting to require the same 100 percent requirement for demand deposits if it correctly required for paper bank notes.

It's important to realise that money, it's a generally accepted medium of exchange. So, I also cordially disagree with James Turk on this point. Gold is currently not money, at least in the world we know, because if I take my gold coin – I always travel with my gold coin – and I try to pay, for instance, for lunch for all of you here with this gold coin, very probably the owner, the lady owner will think I'm a crazy gold back and she will not accept.

[laughter]

Man 1:  She will accept it.

Professor Huerta de Soto:  Well, that would be the exception that confirms the rule. [laughter]

Man 1:  Yeah, yeah, really.

Professor Huerta de Soto:  But, if I take my monetary supply of euros and I try to pay her with the euros, I'm sure she will take very quickly the euros. So, now, this is the money; we like it or not. This is the problem we are suffering, that this is the money, and this is a result of this historical evolution that I've been trying to explain to you. Only around 10 percent, roughly, of the monetary supply used by us is materialised in this kind of paper money, paper euros, bank notes and coins. The remaining 90 percent, roughly ‑ and this percentage is very similar in the States, Japan and Europe – that's not materialised in paper money or coins. The remaining 90 percent are just book entries in the accounting books of banks. It's what I call virtual money.

Virtual money that in the same way is so easily created anew in a process of great expansion, I resume formally when I explained I lend you one million euros against a deposit created anew, in the same way it is expanded so easily, it contracts so easily when the financial crisis arrives because if you give me back the loan and I'm not able as a banker to substitute this loan with a new one, the monetary supply squeezes, contracts.

That's something important to remember because when you think about these huge new doses of money created by governments nowadays, please remember that it's being created and injected in an environment of financial crisis and economic recession in which always politically there is a huge contraction in the monetary supply. So, in a way, they are just accommodating with the new money the decrease in the monetary supply that is the unavoidable result of any financial crisis.

That's the reason we are not experiencing hyperinflation. The problem is that when we begin to recuperate in normal circumstances, this new monetary base is used to multiply a huge, great expansion that will be able to repeat the bubble that we suffered 10 years ago.

I would like to try something here, to explain to you the heart of capital theory in five minutes. That's very important.

Capital theory is very important in economics. It's like the bridge that connects the monetary side with the real investment side. And it's very important that we understand how this bridge works, in which way money does affect real investment decisions. This is explained by capital theory. And in order to do that, we should understand first in which way savings in a free market tends to be invested correctly. When we save, we decrease our current consumption. In fact, this is the definition of saving. And when we decrease our current consumption, the prices of consumer goods tend to go down and tend to decrease.

If this happens, the profits of industries and companies producing consumer goods tend also to go down. And this is very important because it gives a signal all around the economy that tells entrepreneurs that they should redirect their investments from consumer goods industries toward capital goods industries that are further away, temporarily further away, from current consumption. Please do not forget that most of the entrepreneurial effort, most workers are not producing goods and services that will mature this year, I mean consumer goods and services. Most of the economic effort of developed nations is concentrated in producing goods and services that will mature not now, not next month, not in this year, but two years from now, three years from now, four years from now, even more years from now. And this temporal dimension of the structure of production is one of the most important tools of capital theory we should be very acquainted, familiar with. And it is very important because all Keynesian economic theory, all monetary Chicago school theories, they always forget this temporal dimension of the structure of production.

If prices of consumer goods that are going to be sold and eventually are going to be bought this year goes down, it gives a signal that we shouldn't invest in producing goods and services very short term, but we should invest in capital goods industries that are producing for the more long term future, three, four, six years from now.

A lot of people, for instance, now are trying to design a car, the car that we'll consume 10 years from now; other people are trying to mine the iron ore, the iron ore that will be put in a car that will be sold three years from now, and so on and so forth till the last stage of the production when the car is assembled and sold this year. Cars that are sold this year began to be designed 10 years ago. People designing cars today, these cars will only mature and arrive on the market in 2020, for instance.

This is very important because when savings do increase, this only affects a small subset of the economy, those entrepreneurs and workers closer to consumption, and it does not affect entrepreneurs investing and working for the consumption that will be realized 10 years from now. It is irrelevant that consumption decreases this year for all the people that are producing consumption goods that will mature only 10 years from now.

I wanted to address this idea because now you will very easily understand that this signal of the profits tells entrepreneurs when savings increases that they must redirect their effort to more capital goods industries. At the same time, when savings increase, prices of consumption goods of this year goes down, which means that with the same wages, with the same monetary incomes, real wages goes up because it's possible to buy more goods and services at the reduced prices.

So, if real wages goes up, this is another signal that tells entrepreneurs A) now workers are relatively more expensive. You should substitute workers in the margin by machines, computers. This is a second and very important signal. Who are going to produce the machines, the computers? Precisely the workers that are dismissed in the industries that are closer to consumption when savings goes up.

And there is a third signal, microeconomic signal. When savings do increase, the interest rate tends to go down because there is a greater supply of present goods, a greater supply of loanable funds, if you want. And if the interest rate goes down, the market prices of capital goods goes up because the market price tends to be the discounted value by the interest rate of the future stream of income of each capital good. I don't mind if it is a home, a factory, a truck, a lorry or whatever.

So, if interest rates go down, the market prices of capital goods goes up, which is a third very important microeconomic signal that tells everybody in the market they should produce not short term consumer goods but computers, machines, factories, trucks and so on.

What I have explained to you through these three microeconomic effects, it's nothing more, nothing less why the so-called Keynesian paradox of saving is entirely wrong from the point of view of economic theory. What I'm telling you is that it is perfectly possible to earn profits even if you see your turnover, your sales going down because there is an increase in savings. How? How are you supposed to have obtained a profit if you sell less in monetary terms very easily, reducing your costs in even a greater amount. How? Substituting the most expensive labor by the most cheapest machines.

This is an idea that neither Keynes, nor Milton Freidman, nor in general all the macro economists never understood. I think I was able to make this heroic fit. Ah! By the way, I'm not very happy. That looks really... I'm really proud, [sniffs] it smells good.

[applause]

Professor Huerta de Soto:  Books do convey ideas and spiritual message. That's the reason it's so important that you are able to touch it, to smell it – to connect your body with the spirit. Thank you. I'm really very happy. That's the happiest thing you could show me today is the book in Flemish. Well, now that you understand that, we will see by contrast what happens if this process of more investment is not triggered by an increase in savings but is financed through credit expansion. What they mean is through the creation out of thin air of new money materializing in deposits, in credit interest in the liability side of the banking system. This is called through fractional reserve. What happens?

Well, at the beginning, the first symptoms are very similar to the process of good savings and get new and real savings just half explained. At the beginning, what happened? The entrepreneurs do receive new loans. They do not know if these loans are the result of new savings or if they are just being created through a process of creative expansion. What they see is that even bankers are offering them very easy terms for the new loans.

'Go ahead! Here is the money available. Don't be stupid, use it! The interest rate is very low, even negative in real terms.' So, nobody would be surprised if entrepreneurs by and large take the money, nod and run and go to invest it. To invest it as if the total amount of savings in society will have increased. When in fact this didn't happen, because all was found out through a process of artificial faith, expansion based in the creation of new deposits.

So, with this new creation, entrepreneurs began to shift all the effort and investments to investments that will mature in a more distant future. For instance, in the last bubble, the protagonist of the process in many countries have been the real estate sector. For instance, in Spain, we build every year between 700,000 and 800,000 homes. Exactly the same amount as in the rest of the European Union together.

And we're currently having one million homes, nobody... nobody wants. Whether the entrepreneurs are stupid in Spain? No! They were not stupid, I could tell you! I know many of them. What happened is that a process of huge credit expansion was created, especially in the periphery of Europe.

Remember that when we entered the Euro, it was established as the tangent of the European Central Bank growing rate of 4.5 percent for the M3 monetary supply. Again, stock target, the total amount of money unit was growing. There were many years at seven percent, almost twice as much as the original target. But, this seven percent increase was not evenly distributed all around the countries of the monetary union.

In some countries, it was growing at much greater path! For instance, in Spain, it was growing at 14, 15 percent per year of new money materializing in credits, created out of thin air. When at the same time in France or in Germany, it was only growing at three, two, four percent. Of course, this created a huge bubble in Spain, in Ireland, in Portugal, in Greece, in the peripheral countries. Happily, the backbone of Europe is this, which we are seated. I mean Germany. Holland, France, Belgium and my investment was not so huge as in the States in this part of Europe, but it was really huge and the harm done in the periphery of Europe was really, really unbelievable. And that's the reason we're now in so difficult a situation in these countries.

Well, when the money is created out of thin air and given to the entrepreneurs, they began to invest as if savings will increase – well, this didn't happen. And there are six micro economic effects that inevitably sooner or later do revert the bubble and create a financial crisis and economic recession. I explained this micro economic effects with detail in chapter five of my book. But, you will understand the idea very easily. Of course, the process of the bubble can continue for many months, even years if the rate of increase in new deposits is kept very large and increasing. But, at the end, it is unavoidable that the new money reaches the pocket of consumers, because entrepreneurs do pay to buy good services and to buy capital goods, and then in the third stage, fourth stage, at the end, the money finishes in the hands of consumers. And if they didn't decide to increase their savings, they begin to buy consumption goods.

And what happens then? Something that is exactly the opposite of what I explained to you just before. Prices of consumer goods begins to increase at the greater path than prices of capital goods. This is a signal that tells entrepreneurs, 'Hey! The profits in industries producing short term consumer goods, not in long term capital goods industries. So, probably I was wrong, I put all my wealth in that.' Well yes, you were wrong.

But second, if prices go up what does this mean in terms of real wages. Real wages go down, so in the margin, it is cheaper to hire a worker than to buy a computer. So, a second micro economic effect that is affecting computers. But, not only that, when prices go up, what happens with interest rates? They're at a prime to take into account this inflation and the new higher risk environment.

We experience an increase in interest rates and what this means in terms of prices of capital goods exactly the opposite of what I explained to you. They tend to go down. This is a definite signal to entrepreneurs that they were wrong. All entrepreneurs that took the new money to invest in more long term maturing capital goods now realise those investments are not sustainable.

This is an unavoidable reaction of the society telling all entrepreneurs all around the economy that they were wrong, that there are not enough real resources saved to make profitable those soul capital intensive investments that were wrongly launched in the bubble years. And now you will realize how is the logic of the evolution in the cycle. All of a sudden, the market discovers... The market is very efficient.

It's a process that I tell is very dynamically efficient. In fact, this is the title of my fourth book just published in England by Rutledge, 'The Theory of Dynamic Efficient.' The market always discovers all these bad investments because it is very efficient. And when it discovers it, what happens with the banks? The banks do have on the asset side of the balance sheet the market value of the loans they lent. In the liability side, the deposits they created anew.

When the market discovers that most of the malinvestment was wrong doing and is not sustainable, it discovers the true market value of the asset side of banks is just a fraction of what was originally thought. But, at the same time, the liability side of the balance sheet of the banks is exactly the same. The market discovers that the bank system is bankrupt and this is the financial crises we experienced since the Lehman Brothers, all the banks with him.

I do not mention... I do not want to mention any Belgium bank for this, or any Dutch bank, ING, ABN, I will not mention any specific American bank, Citigroup, American International, I do not want to give any specific names in this lecture. But, for instance, in one country, we'll not mention in that all the banking system with one exception went bankrupt. But, this is nothing new. This has been the same experience, one after another since the last 200 years.

It's a retort of an accident of history. The error committed in Peel's Bank Act. By the way, Robert Peel was not a very original nor an intelligent person. He just applied the traditional leader principles that everybody knows, at least the old Roman scholars. In any deposit of a fungible good, no matter if it is oil. We call it in Spanish El Masada. It is the deposit of an oil. El Masada, it's a lot of words. Many of our words in Spain come from the Arabs. They were only in my country a 100 years, don't be so surprised by that.

Or is it a deposit of wheat? In wheat deposit we call it silo in Spanish. I don't know how you call it in Flemish or in English. It is in our principle of law that the man or the company receiving the deposit, what is called the depository, gives you a certificate, a paper saying I deposited an amount of oil and so on, so that you can return your deposit whenever you want. And it is a general principle of law that the depository cannot take a part of what he or she receives to be used in he or she, their own businesses, because if this is done, he commits a crime of misappropriation.

As a matter of fact, according to the Spanish penal code, it provides a four-year prison term for you. But, there is a small group of economic agents that obtain a privilege to act against this traditional principle of law, and those agents are bankers.

What I try to do – in fact in my book, it's a very easy task – is just to make what are the economic consequences of providing this privilege to this group of economic agents that we call banks to act against the general principles of law regarding the demand deposits of fungible goods. And, of course, the most important fungible good is money.

And the consequences are all the consequences we are suffering and we are very familiar with. And I repeat it again. It is unbelievable that in the 21st century, in the second decade, we are still using paper purely fiduciary public money, that the true voluntary private money, gold, has been expropriated to us, that the legal tender laws that there is a central planning agency called 'central banks' that try to organize all the financial world from above as if it were the Gosplan of the Soviet Union.

We have 100 percent pure socialism in the financial area. And everybody is very happy. I'm surprised why there are not huge manifestations like the ones we are seeing on the TV in Libya against Gaddafi. We have much more reason to make those protests than the people in the Arab world. It is unbelievable how stupid all of us are accepting as something normal of the capitalist system this extremely abnormal situation.

And I explained that the first symptom is the – I still have a lot of time....

[laughter]

Professor Huerta de Soto:  ... the financial crisis. And everybody understood what happened. Of course, in this situation, it was avoidable that the central bank came to bailout the private banking system to try to recreate the part that is needed in their balance sheets in order to avoid the whole financial... monetary financial system disappeared what would be a tragedy. So, everybody understand what happened ‑ central bankers bailing out private bankers. They were created for that. What is strange is that very few people realised that the true responsible for the whole mess were central bankers. I explained to you before central bankers were created as lenders of last resort and also to direct, to orchestrate like the director of an orchestra, to orchestrate path of great expansion.

For years, they've been accepting a huge great expansion. They were the responsible institution of all of our current suffering, but now they are appearing to the society as the only institution that was able to save the whole system. It's like the fireman... it's like the man putting into a fire house and then going back like a fireman to try to put a stop on it.

And we are so stupid that everybody when they hear the story on the TV, 'Ah, thanks, Ben Bernanke. Thanks, Jean‑Claude Trichet. Now we can sleep quieter this night, because you save us of all this mess created by the greedy behavior of stupid bankers.'

No, bankers are not stupid nor greedy, believe it or not, nor bad people, believe it or not. They are more or less like you and me are.

And if you or me do receive the message that there is money available at zero percent rate of interest ‑ not only that, at negative rate of interest ‑ nobody would be surprised if in the margin loans are provided to a stupid – I will not say that word – to unsustainable, very risky projects. Now bankers, central bankers, how are they reacting? 'Ah, this is the fault because there was not enough regulation. We need Basel II, Basel III, V, V1, VII, in order to avoid that loans are given in a stupid way to risky projects.'

No matter how many regulations you enact, all of them will be a huge failure. They are only attacking the symptoms but not the real causes of the problem. What would be the final decision at the end? Would we, the officials of the Central Bank of the Netherlands, we will decide to whom we should give the loans? Do you think they will accept?

This is the Gosplan all the economy entirely nationalised. They are not attacking the real problem. Nobody is telling what everybody knows, that the real problem has its roots in fractional reserve banking and in this error of Peel's Bank Act.

After the financial crisis arrives, the second step in the cycle is the economic recession. And I would like to give you an optimistic word about the economic recession. According to Hayek and especially Mises, the economic recession is already the recovery, so we are already recovering. Do not doubt about that.

The free market is in a spontaneous order, which is extremely dynamically efficient. The economic recession is a process that can be longer or shorter. It's a very hard process. There is a lot of suffering, but this is a process in which an army of entrepreneurs tried to deduct which investments were profitable and which were not and are trying to save from the errors what can be saved. A huge restructuring of the economy is spontaneously done by this army of entrepreneurs that many in a despairing situation are trying to save what they can.

For instance, in Spain, in just a year, 200,000 corporations have disappeared, most of them related with the building sector. Five million people have been unemployed, and this is very good, because they were formerly employed in unsustainable investment projects.

This is the microeconomic idea that neither Keynesians nor monetarists nor any macro economist can understand because they only analyse theoretically the problem in aggregates, and they do not see that the financial is a microeconomic problem, not a macroeconomic problem.

So, the Spanish economy is already healed. It's like having a tumour. You have a tumour, then the tumour is taken from you by the physician, and you're body is healed, although very weak. This is the situation of the Spanish economy.

Now, what we need to complete is to put these five million workers in new sustainable long‑term backed by genuine true savings investments from building the building sector towards a constellation of new sustainable investment projects. And this can only be done by a free market protagonist by entrepreneurs in an environment of liberty. This is what we are doing, so we are already recovering. And the third step of the cycle is the budget crisis of governments. This is very interesting from the theoretical point of view. Well, politicians are very stupid people. They do not understand anything of what I am explaining to you.

In the years of the bubble, they were selling to the electorate, 'Look' – and I'm referring to Spain, France, America, every country – 'Look. You know we have been able to defeat the vice of the cycle, so now we are in the new economy in which everybody is going on well.

We are increasing gross national product three, four percent. We have full employment and the unions are very happy. There is a strong demand of labor. We cannot obtain all the labor we need so we need five million immigrants from South America and Africa, the Arab countries. Everything is going up.' You know the taxes are going up double‑digit figures increase per year.'

And they are surprised. They do not know the real cost of that. How is it possible that public income increases 12 percent per year if the gross national product only increases three, four percent? Nobody understands, but they say, 'Shh, do not tell anybody. We will sell to the electorate that we are doing very well, that we are even equilibrating the budget, and at the same time we can increase public expenses as we want, for instance, in Spain, connecting through the fast train all the capitals of Spain, including the capitals of the Balearic Islands and the Canary Islands.' It was literally written by a very important political party in my country.

So, all of a sudden we are millionaires. Have you gone by plane to Madrid? Have you seen that three, fourth terminal? The best example of huge money investment financed through credit expansion. What happens is that, for instance, the value‑added tax, at the end, is paid by consumers, but it is advanced by entrepreneurs.

In the period of great expansion, a lot of new companies and projects that are materializing the malinvestments are created and they are advancing the value added tax to the government. Of course, one, two, three, four years from now, they will realise it is entirely wrong, and no consumer will buy them.

But, in the meanwhile, they were giving in advance, advancing, a lot of money to the government. The same way this huge increasing public income is a reality in the bubble years when the financial crisis and the economic recession comes, all of a sudden the public income decreases.

For instance, in my country, in one year, it decreased 20 percent. And public officials, 'We cannot explain that. How on earth is this possible?' They couldn't explain the increase before, they cannot explain the decrease now. There is a huge financial problem.

In Spain up until now, whenever we had this budget crisis, the reaction of the government was very easy. We were living in a world of monetary nationalism. There is a book written by Hayek entitled Monetary Nationalism and International Stability. I recommend to all of you to read that book, small book, 100 pages, if you want to understand anything of what is going on, of what I am trying to explain to you today.

When the budget crisis came in the last bubbles, after the last bubbles in Spain, the reaction of the government was very easy – to devaluate the peseta from the night to the day, 20 percent. For instance, this was done in the 1990s. And citizens are so stupid that when 20 percent of their incomes and wealth is expropriated, all of a sudden they leave their homes the next day so happy to work as if nothing had happened.

But, in this last cycle, happily, this was not possible. And this was not possible because we were in the euro. Against very probably the true wishes of our politicians if they knew what the euro means as a discipline we entered the euro, and this is something we should be thankful forever to God.

[laughter]

Professor Huerta de Soto:  Imagine it's the first time I've seen a Spanish politician, no matter if he was from the right, from the center, or from the left, with his hands entirely bound telling to the citizens the truth. And only for that I will kiss Jean‑Claude Trichet's ass forever.

[laughter]

Professor Huerta de Soto:  I would like to speak about my country, but this is being recorded and probably could be used against me. [laughter]

Professor Huerta de Soto:  I will speak about Greece. Greece, the quintessential of the demagogic policy in the past. Being able to retire – Greece was like the Argentina of Peron. Everybody will be able to retire at 58, 55, or 60 years old. But, just a question. In Germany, the retirement age is 67. Don't tell stupid things. Germans are stupid. We in Greece are, you know, intelligent people. Let us make a democratic election, please. Who is in favor of retiring at 58 instead of at 68? Unanimously. Who is favor is having privileges, subsidies, more vacations? Democratic, you know success the measures. Democracy is a system that can only work if there is a framework that can discipline all the agents participating in it, not only politicians but also citizens, voters, bureaucrats, and so on.

And believe it or not, from the point of view of the peripheral countries, not from the point of view of Germany, the euro has been a significant step forward in the right direction, because, again, in this cycle is the first time in our history that we've been not able to react against these stupidities committed in the bubble years with autonomy of our monetary policy.

The euro from our point of view is like a proxy of the gold standard. We are receiving the same discipline of the gold standard. Of course, I agree with you that at the end, the European Central Bank is monetising the public debt, of course, but it is being monetised in a context of a squeeze in the monetary supply so up to now we have not seen significant inflationary pressures.

And also it is monetised but with a gun. I will monetise it to you, but you must decrease five percent the wages of all public servants, among them myself. You must frozen the patience of everybody which has been done in Spain. You must stop all the stupid public works of uniting all capital cities of Spain with the fast train, and so on, and so forth.

And last year, I've been the happiest man in the world looking how the disciple or something which is a proxy, very timid, of the gold standards, the good effects it has had in my country. Only from the point of view of Germany, it would be preoccupied because at the end when the corporation consolidates all these huge monetary bases that have been created could be used to materialise a new huge great expansion and so on and so forth.

What the central bank of Europe is doing is exactly the same that is being done by the Americans with two differences, first of degree. The stupidity of the Anglo Saxon word in monetary matters has been huge since the Second World War. Look now at the face of Ben Bernanke or Alan Greenspan. Of course, I'm a strong believer.

The degree is the first difference between America and the central bank of Europe. The second difference is that no measures of austerity have been taken in the States at least up to last week when it seems that Barack Obama gave a change of 180 degrees, probably because he lost the elections. In Europe, the bailout is being done. But, measures of liberalisation, austerity, restructuring, are being demanded, and that's really something that should be very welcome from the point of view of the peripheral countries.

For instance, for that reason, I am much more optimistic about the euro than about the dollar. And there is an illustration of that. Why on earth every day we read an article by Krugman and all his sycophants saying, 'You are stupid Europeans taking austerity measures. Merkel is the most stupid president in the world. You are doing exactly the opposite that you should do. The euro is going to be a failure.' Next day, 'The euro is going to be a failure.'

OK, I will stand three days, but after 300 days telling day by day the same, I am sure that there is a hidden agenda after that. They are terribly scared that what will disappear short‑term is not the euro but the dollar. They have a personal interest in the failure of the euro, and of course, you would interpret I am defending the euro, that I am defending the euro emphatically. I am a gold bug, but I am telling you there is a strong difference between the dollar and the euro.

But, now we are in a historical moment because we are not clear about that. But, the fate of the dollar now is in doubt. Almost 70 percent, I think, of American public debt, it's in the hands of the Asians. It depends only of their true wishes, if they want to change [inaudible 1:00:55] . What about the Arabs, look in the Internet? Allah forbids to accept as payment dollars. No more green papers. They require gold. Even if they decide no more dollars, gold, then it'll be the euros. We'll see what happens.

But – I'll finish. I'll finish immediately. I'm sure that we'll recover sooner or later. We're all ready recovering. The tragedy is that when we recover, we will begin to experience again a bubble. Bankers will begin to expand credit again. No central banker will dare to stop the fiesta, the party.

This is what is called by Mises passive inflationism, people requesting credits to the bankers, bankers accommodating the demand out of thin air, and the central bank not doing anything in order to avoid being the culprit of a new depression. When they realise a new bubble, a new financial crisis, a new economic recession will come, and this again and again if three unavoidable measures are not taken to redefine the whole financial system of the world. And these three measures are the following.

First of all, very easy, to complete Peel's Bank Act where it was not completed. So, the first necessary measure to redesign institutionally the financial system of the world is to establish, to reestablish a 100 percent reserve requirement not only for paper bank notes, but also for the demand deposits – demand deposits unequivocally.

So, true term deposits were not included. A true term deposit is not a deposit. It's just a loan to the bank provided that the client is not told by the banker, 'This is a term deposit, but if you want, I will give you back.' That would be the equivalent of a demand deposit with the 100 percent requirement should be established.

If this is done, the business of creating money, extracting money from mines and so on, keeping accounts, regular accounts, making payments, would be entirely separated from the business of intermediation in investments. The real tragedy today is that these two businesses are together in the same institution. I think James Turk explained very well before.

And when the problems in the investment side are discovered, it does affect all the payment system with the risk of all the financial monetary system disappearing. This is what we experience since 2007. So, it's very clear the first measure which as a matter of fact, nobody should be surprised just requiring the bankers to comply with the law as I explained to you before.

If this measure is taken, we could give the second step to reform the monetary system which is just to abolish all central banks because if we have a 100 percent banking system, central banks are not necessary anymore. There is no problem of bank runs anymore. If there is a bank run, the money will be there always.

And central banks are central planning agencies for monetary matters. They want to create the optimum monetary supply in every moment, to fix what should be the most important and free market price, which is the interest rate. They fix the interest rate. They want to fine‑tune the economy. All the fates of all our lives of five billion people worldwide depends on the whims of the success or the failure of just one man ‑ Ben Bernanke, or Alan Greenspan, or Jean‑Claude Trichet, or of a small group of men and women.

Is this a free market economy? If this is a free market economy I ask God to come here to tell me. This is pure real socialism. So, we need – and I finish – we need to complete the fall of the Berlin Wall with the fall of the Central Bank.

And there is a last and final step. Who would be in charge of creating the monetary base? A colleague of mine, French prize-winner of economics that passed away four months ago, Maurice Allen, proposed that the monetary base be purely paper fiduciary money printed by a public authority at the rate of two percent of increase per year.

Of course, that would be a significant step forward in the right direction if it is established in a constitution and there is a way to guarantee the government complies with that mandate.

But, I do not trust in any government, and what I propose, as I said in my book, is just to go back to the purely free voluntary money chosen by the civilisation century after century, to substitute the fiduciary paper money by a pure gold standard. Thank you very much.

[applause]